Boston College Law Review
Volume 8
Issue 3 Consumer Credit - A Symposium
Article 6
4-1-1967
Credit Cards—A Prelude to the Cashless Society
Eric E. Bergsten
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Recommended Citation
Eric E. Bergsten, Credit Cards—A Prelude to the Cashless Society, 8 B.C.L. Rev. 485 (1967),
http://lawdigitalcommons.bc.edu/bclr/vol8/iss3/6
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CREDIT CARDS-A PRELUDE TO THE
CASHLESS SOCIETY
ERIC E. BERGSTEN*
I. INTRODUCTION
The credit card has existed for over fifty years, but is so new in
its legal implications that little is known about it. There are few law
review articles, little case law, and only one statute which treat its
civil aspects. Only a few of the eventual legal problems are visible,
and with most of them one can do little more than speculate. This
article will consider two of these problems: (1) apportionment of the
loss caused by the unauthorized use of a lost or stolen credit card; and
(2) regulation of the cardholder's assertion against the issuer of any
personal defenses he might have against the merchant who honored
the card.
Credit cards originated as credit coins, small pieces of metal with
the holder's account number engraved on them, which served as
identification of charge customers in large department stores.' In the
1920's, oil companies began issuing courtesy cards which were honored
by all their dealers. Since most of the oil companies were regional,
they entered into reciprocal arrangements in order to make their cards
useful nationally.
The founding of Diners' Club in 1950 began a new credit-card
era. Unlike its predecessors, Diners' Club sells no goods. It provides
the credit and collection services for merchant members of the plan
and makes it possible for a card holder to purchase goods and services
on credit at a large number of retailers without a prior arrangement
with each merchant. Diners' Club and its direct competitors, American
Express (which entered the credit-card field in 1958) and Carte
Blanche (which was launched by the Hilton Hotel chain in 1959), are
primarily used by travelers in hotels and restaurants. In 1959 the
Bank of America and Chase Manhattan initiated all-purpose creditcard plans for use in ordinary consumer purchasing.' These differ
from the travel plans primarily in that a larger percentage of the
merchants who accept the card sell ordinary consumer goods.
* B.S., Northwestern University, 1953; JD., University of Michigan, 1956; M.A.,
Georgetown University, 1960; M. Comp. L., University of Chicago, 1961; Member,
Michigan Bar; Member, American Bar Association, Iowa Bar Association; Associate
Professor, University of Iowa.
The author wishes to acknowledge the help of Mr. Gregory Roth, a third-year
student at Iowa Law School, in the preparation of this article.
1 The first case was Wanamaker v. Megary, 24 Pa. Dist. 778 (Munic. Ct. Phil. 1915).
2 As will be seen later, it may be of great legal significance that the issuers are banks.
Carte Blanche is presently owned by the First National Bank of New York.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
Another big breakthrough appears to have occurred in 1966. Not
only have established plans greatly increased their volume, 3 but the
number of consumer credit-card plans has increased to about 1,000. 4
Some of the new plans are vastly more ambitious than their predecessors, which had been primarily local or regional in their operation,
seeking a high level of acceptance by merchants in the area. The
Midwest Bank Card system was organized in November 1966 by
five Chicago banks, each of which issues its own credit card. All of
the 20,000 merchants in the Chicago area who have joined the plan
accept any Midwest Bank Card. The sales slips are cleared between the
banks by a procedure similar to that used in clearing checks. By the
end of 1966, nearly 600 banks in Illinois, Indiana, and Michigan had
joined the system. Some issue their own cards; others have agreed to
issue cards from one of the five Chicago banks. In January 1967 a
similar, nationwide system was formed by eight large banks each of
which issues its own cards locally. 3 At the time of this writing, they
had entered into discussions with the Midwest Bank Card system and
with a California group. If the plans go as hoped, by mid-1967 a nationwide system will be in operation.
II. LOST OR STOLEN CARDS
A. The Problem
The liability of a holder for the unauthorized use of his credit
card has been the only legal issue of the significant judicial cases and
law review comments.' One's use may be unauthorized if (1) he is
3 The Bank of America reported that the number of holders of its BankAmericard in
California increased 50% from 1,250,000 in 1965 to 1,900,000 at the end of 1966. The
number of merchants honoring the card increased from 50,000 to 61,000. The gross sales
on the card increased from $185,990,000 to $228,305,345. During 1966, seven banks in
other states began issuing BankAmericards under licensing agreements and have signed
more than 1,000,000 holders and 20,000 businesses. Wall Street Journal (Midwest Edition),
Jan. 12, 1967, p. 3, col. 2. Two months later BankAmericard was advertising that it was
issued by 15 banks, that more than 90,000 businesses and services belong to the plan, and
that by May 1, 1967 there would be more than 4,000,000 holders. Wall Street Journal
(Midwest Edition), March 1, 1967, p. 13.
4 In 1964, there were only about 70 such plans. Wall Street Journal (Midwest
Edition), Jan. 17, 1967, p. I, col. 8.
6 Ibid. The banks are the Marine Midland Corporation, New York; Valley National Bank, Phoenix; Citizens and Southern Bank, Atlanta; Bank of Richmond, Virginia; Pittsburgh National Bank and Mellon National Bank & Trust Company, Pittsburgh; First Wisconsin National Bank, Milwaukee; and Seattle-First National Bank,
Seattle.
0 The only major article is Macaulay, Private Legislation and the Duty to Read—
Business Run by IBM Machine, The Law of Contracts and Credit Cards, 19 Vand. L.
Rev. 1051 (1966). Student contributions include Comment, The Lost Credit Card: The
Liability of the Parties, 30 Albany L. Rev. 79 (1966); Comment, The Tripartite Credit
Card Transaction: A Legal Infant, 48 Calif. L. Rev. 459 (1960) ; Comment, Applicability
of Exculpatory Clause Principles to Credit Card Risk-Shifting Clauses, 22 La. L. Rev.
640 (1962); 43 N.C.L. Rev. 416 (1965); Note, 35 Notre Dame Law. 225 (1960); 109
U. Pa. L. Rev. 266 (1960).
486
CREDIT CARDS
a thief who has simply stolen the card, or (2) he has been entrusted
with the card for limited purposes and exceeds his trust. The reported
cases include unauthorized use by employees, by a roomer, and by a
divorced or separated wife.'
The magnitude of the problem is unknown. Estimates of the
yearly monetary loss have ranged from Time's $1,195,000 (in 1962) 8
to the Better Business Bureau's $20,000,000 ° and Kiwanis Magazines
$30,000,000. 1° This enormous monetary loss has been represented in
the courts by only twenty reported cases,' but the annual number is
increasing. Seven occurred between 1915 and 1945, and the remainder
since 1960; this represents a change from one every six and a half
years (for 1915-1959) to nearly two a year.'
The amount at issue in the post-1960 cases has ranged as high
as $7,104.21." While this figure does not approach the large sums
of money that may be lost in commercial transactions, it must be
remembered that these losses are usually occasioned by a picked pocket
or a lost wallet. The effect is that each credit-card holder always carries
with him several thousands of dollars in currency. For some the
potential liability from a stolen card is greater than their annual salary.
It has been reported that "most major credit-card companies grimly
absorb these losses themselves,' but the standard contracts of most
issuers provide that the holder will be liable for all charges, at least
until notice of loss or theft, although a few have recently limited the
holder's liability to $50 or $100. In addition, eight of the plaintiffs in
the thirteen cases reported since 1960 involving lost or stolen cards were
See notes 22 and 36 infra.
Time, June 19, 1964, p. 53.
9 News Release, Better Business Bureau, October 1966. Further inquiry revealed
that "the $20,000,000 loss figure is a projection based upon meager statistics available
from industry sources plus an estimate compiled by law enforcement agencies. Many
with whom I have spoken in the latter category consider the figure to be conservative."
Letter from Mr. Martin R. Pollner to the author, Nov, 23, 1966.
10 Renner, Crime and the Credit Card, The Kiwanis Magazine, Summer 1966, p. 20.
Mr. Renner also estimated that 300,000 credit cards were stolen and used fraudulently
in 1965, an average loss of $100 per card. More conservatively, Time estimated, "Of the
70 million credit cards in circulation in the U.S., no fewer than 1,500,000 are lost each
year, and of these 60,000 have been stolen. Illicit charges run up on a stolen card are
estimated to average $500." Time, June 19, 1964, p. 53.
11 See pp. 488-97 infra.
12 For a discussion of the criminal aspects of the unauthorized use of credit cards,
see Katz, Federal Prosecution for the Interstate Transportation of Stolen Credit Cards,
38 U. Colo. L. Rev. 323 (1966); Comment, 57 Nw. L. Rev. 207 (1962); 7 St. Louis
U.L.J. 158 (1962). For a summary of the state criminal statutes, see Retailers Manual
of Laws and Regulations 351 (17th ed. 1966).
13 Sinclair Ref. Co. v. Consolidated Van & Storage Cos., 192 F. Supp. 87 (ND.
Ga. 1960). Only one case involved less than $500. Abraham & Straus v. Teller, 37 Misc.
2d 797, 236 N.Y.S.2d 435 (1962) ($210.33).
14 Time, June 19, 1964, p. 53.
7
8
487
BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
major card issuers.' Thus it may be questioned how much of the
burden is in fact "grimly absorbed" by the issuers.
B. The Cases
The method by which losses from unauthorized use are apportioned
between the card holder and the issuer is governed by the contract
between them. In the reported cases, these contracts have taken three
basic forms. The earliest cases, and a few of the later ones, involved
no written contract, and courts were forced to determine the terms of
the parties' agreement by implication. A, second group involved
contracts which placed on the holder liability for all purchases made
until surrender of the card to the issuer. Finally, the modern cases have
generally involved a contract term placing liability on the holder until
he notifies the issuer of loss of the card. Because of this reliance on
private agreement rather than on public law, any analysis of the
reported decisions must be made in light of the type of agreement
involved in each case.
1. No Written Contract. The lost-card problem first arose with
the credit coin. There was no formal contract between issuer and
holder defining the holder's liability for unauthorized purchases made
with his coin, and the courts found it difficult to determine the nature
of this new device. In Wanamaker v. Megary," the first reported case,
a Pennsylvania trial court analogized the coin to a bearer negotiable
instrument, which a good-faith purchaser from a thief takes free from
others' claims even if he was grossly negligent. As a second ground for
a decision in favor of the issuer, the court said that the unauthorized
purchases were made possible by the holder's negligence in keeping in
an insecure place her coin and visiting cards containing her name and
address. Eight years later another Pennsylvania court decided in favor
of the same issuer in a case in which the testimony showed that the
holder had applied for and received the coin "with the understanding
that . . . any one presenting the token and giving the name of the
defendant could purchase goods upon her credit!" 17 In both cases the
transmissibility of the coin was emphasized by the court.
In 1923, the New Jersey Supreme Court rejected any analogy
to a negotiable instrument in Lit Bros. v. Haines."
[T]he coin was given merely as an identification card . . . .
[I]t has none of the requisites of a negotiable instrument, for
title to it cannot pass by delivery like securities payable to
15 See notes 22 and 36; pp. 489-90, 494-97 infra.
18 24 Pa. Dist. 778 (Munic. Ct. Phil. 1915).
17 Wanamaker v. Chase, 81 Pa. Super. 201, 205
18 98 N.J.L. 658, 121 Atl. 131 (1923).
488
(1923).
CREDIT CARDS
bearer . . . . [I] n the absence of any proof of an agreement
between the parties that it was to have any other effect it is
limited to that purpose . . . . 19
Since the parties had stipulated that the holder took the coin with no
knowledge that it could be used by anyone else, the court dismissed the
action.
A different legal principle was relied upon in Gulf Ref. Co. v.
Plotnick," another Pennsylvania decision. The automobile in which
the holder kept his card was stolen on August 27, 1933, and the thief
used the card from August 28 to October 13. Although the holder
received monthly bills for these charges, he did not notify the oil
company of the theft until some time in October or November. The
court implied from the relationship between the issuer and holder a
contractual duty that the card would be "used or honored properly and
with due care."' This it felt the holder had not done, and it denied
his motion for judgment n.o.v. 22 The court did not make clear whether
the holder's lack of due care lay in keeping the card where it might be
stolen, as had been suggested in Wanamaker v. Megary, or whether it
lay in failing to notify the oil company of the theft.
Finally, there is Thomas v. Central Charge Serv., Inc.," which
is unique among the post-1960 cases, because it is clear that there was
no written contract. The holder had used his card only once and
had not signed it before it was stolen. When bills for more than $500
were presented to the issuer, it telegraphed the holder notifying him of
the unusual activity. On the following day, he went to the issuer's
office, where he denied having made more than one purchase. The court
said that "whatever the rule should be when a customer expressly binds
himself by contract to promptly report a lost or stolen credit card,"
Id. at 659-60, 121 AtI. at 132.
24 Pa. D. & C. 147 (C.P. 1935). By this time, written contracts allocating loss
were in general use, but the court did not mention one between the parties.
21 Id. at 150.
22 Using the same reasoning, the Louisiana Court of Appeals arrived at the
opposite result in Humble Oil & Ref. Co. v. Waters, 159 So. 2d 408 (La. App. 1963).
Although it is difficult to believe that there was no notice clause binding the parties
in 1959, the case was decided without reference to any written contract between the
parties. Miss Waters had lent her card to her roomer, but refused to give him the 1960
replacement card. He called plaintiff's credit office and said the replacement card had
not arrived, whereupon they sent another, which he stole from Miss Water's mailbox. He
also stole five months' statements. When Miss Waters finally received one, it totaled more
than $2,000. The court based its opinion on the finding that the holder had not been
negligent and that the issuer's action in sending a credit card in response to an anonymous
telephone call without verifying the identity of the caller "constituted, at least, carelessness and in all probability, negligence. For this, defendant is not responsible." Id.
at 410.
23 212 A.2d 533 (D.C. Cir. 1965). As a result of losing the case, Central Charge
Service has put a notice clause on the application form and on the card.
19
20
489
BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
he had no such obligation in this case.' No promise to pay for unauthorized purchases, even those made prior to notice, could be implied
from the relationship between the parties. The court found that "at
most it may be said by implication that Thomas agreed to exercise
due care in the use of his card. And while he perhaps failed in that
agreement, it is plain that such failure is insufficient to support this
action."' Why it was insufficient was not stated, although the court's
determination was presumably based on the lack of "proximate cause."
There were no special circumstances on the' part of either issuer or
holder. The court apparently felt that the holder's liability could be
based only on an express contract.
It is unquestionably dangerous to attempt to draw any general
conclusions from these cases, since only four jurisdictions are represented and the cases are widely separated in time and dissimilar
in fact. It may be suggested, however, that the courts have now firmly
fastened on the principle of negligence when there is no written contract governing the issuance and use of a credit card. Precisely what
will be done with that principle is not clear, since the burdens are not
always placed on the party blamed for the loss, but at least the litigant
is furnished with a theory with which to approach the court.
2. Surrender Clause. Realizing the dangers of leaving the creation
of contract terms to the courts, issuers began to include specific contract clauses placing on the holder the risk of unauthorized purchases.
In Magnolia Petroleum Co. v. McMillan, 2 ° the contract provided that
the holder was "responsible for all purchases made by the use of this
card, prior to its surrender to the issuing company, whether or not such
purchases are made by the named holder or into the car described." 87
The unauthorized purchases in question were made after the holder
had instructed two friends to return the card which he had loaned
them, but prior to any notice to the issuer. In reversing the trial
court's judgment for the holder, the Texas Court of Civil Appeals
relied on the contractual promise to pay for all purchases made by
use of the card and, even though there was no contractual obligation,
on the failure to give notice. It did not purport to rely on the fact that
the card had originally been voluntarily transferred to the wrongdoers
by the holder himself. On the other hand, it did not mention, except
in its recitation of facts, that the card was nontransferable, and that the
signatures on the credit slips showed that the purchases were not made
by the holder personally. 28
Id. at 534.
Ibid.
168 S.W.2d 881 (Tex. Civ. App. 1943).
Ibid.
28 The credit slips were signed with the holder's name "by M. A. Carter" or
"by C. H. Clark." Ibid.
490
24
25
28
27
CREDIT CARDS
Only one other case has been reported which may be regarded
as having involved a "surrender" clause—Gulf Ref. Co. v. Williams
Roofing Co., 2 ° a significant case in the history of the law governing
credit cards. Printed on the card was a clause, which the court assumed
bound the holder; this clause provided that the holder "assumes full
responsibility for all merchandise, deliveries or service obtained on
credit by any person by its presentation." 3 ° The holder was also required to notify the issuer of loss of the card. The issuer argued that
the effect of this clause was to make the holder liable for all purchases
made with the card, until it had been returned; because of the treatment it gave the case, the court did not reach this issue. Gulf had
issued eight of these credit cards to a roofing company for the use of
its drivers. On the face of each one the holder had typewritten "Good
for Trucks Only." One of the cards was inadvertently left by a driver
at a gas station, and an employee of the gas station "embarked on a
90-day orgy of buying from Gulf dealers in Mississippi towns by
presentation of the stolen card and forgery of the name of Gerald
Huckaby as `Geral Huckaby.'' 31 The attitude of the dealers from
whom the wrongdoer bought was incredible. In the words of the court:
Some of the dealers knew the forger and he had lived in
several of the towns where purchases were made. Tires were
sold for a passenger automobile and in some cases of a different size than was required by the vehicle the forger was
driving. One dealer sold him two radios, one for his car and
the other for his house, which were charged as tires and
gasoline and the house radio was never delivered. Charges
were made for 20 gallons of gasoline when the capacity of
the car the forger was driving was only 15 gallons. In several
instances cash was delivered upon false invoices made out for
merchandise. Most of the invoices had a fictitious license
number written in by the dealer which was different from the
license number upon the automobile driven by the impostor. 32
The collusion of the merchants was sufficient to decide the case
in favor of the holder. The issuer as assignee "took the invoices subject
to all equities and defenses existing between [the holder] . . . and the
various dealers, although [the issuer] . . . may well [have been] .. .
a bona fide purchaser for value without notice of such equities or
defenses." 33 To the allegation that the holder was bound by the contractual provision to pay for all goods purchased by use of the card,
208 Ark. 362, 186 S.W.2d 790 (1945).
Id. at 369, 186 S.W.2d at 794.
31 Id. at 365, 186 S.W.2d at 792.
32 Ibid.
33 Id. at 367, 186 S.W.2d at 794.
491
29
39
BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
the court replied that he had the right to limit its use by placing on
its face "Good for Trucks Only." The holder had notified the issuer
at the time of application that the cards were for the use of trucks.
Even if he had not, the dealers "were guilty of gross carelessness in
selling items for use of a passenger automobile contrary to this provision of the card."" The court went on to say that "it is necessarily
implied from [the holder's broad promise to pay for all goods purchased
by use of the card] ... that the person extending credit must do so in
good faith, in accordance with the provisions of the card and subject
to any limitation appearing on the face of the card." 35 Under the
circumstances, the court observed, it was doubtful if the loss would in
fact fall on the issuer. The gross carelessness of the various dealers
limited the issuer's obligations to them, and the culprit was known and
had not been shown to be insolvent.
3. Notice Clause. The surrender clause does not seem to have
played a very significant part in the history of credit cards. Perhaps
because issuers realized the ill effect such a broad clause would have on
the judicial attitude toward credit-card issuers, or perhaps because
holders resisted undertaking such an enormous obligation, issuers have
virtually abandoned the use of this clause in favor of clauses providing
that the holder is liable for all purchases made with the card until
he notifies the issuer that it has been lost. Decisions construing these
clauses are the only ones with any significant degree of vitality today.
Although not every recently issued card contains a notice clause, all
the large issuers use one. Its legal import has been analyzed in only
four recent cases."
Id. at 368, 186 S.W.2d at 794.
Id. at 369, 186 S.W.2d at 794.
Eight other cases have been reported in which notice clauses were involved, but
the court did not, for one reason or another, construe the clause. In the earliest, Jones
Store Co. v. Kelly, 225 Mo. App. 833, 36 SAV.2d 681 (1931), the court was concerned
only with whether the card was transferable and had been voluntarily transferred. On
remand, the jury was to be permitted to consider the existence of the clause and the
holder's failure to give notice.
Abraham & Straus v. Teller, supra note 13, considered procedural aspects of the
problem and resulted in judgment for the holder. The court held that the issuer is
required to process the notice within one day of receipt, no matter how large its
operation, comparing the situation to a stop-order on a check.
In Uni-Serv. Corp. v. Frede, 50 Misc. 2d 823, 271 N.Y.S.2d 478 (N.Y. City Civ. Ct.
1966), plaintiff's application form and contract provided that the contract would be
accepted only by mailing the applicant a card. Defendant never received his card, and
the court found that it had not been mailed with a proper address. Therefore, there
was never any contract between the parties, and the defendant was not liable for purchases totaling $2,342.08. In passing, the court remarked that, since plaintiff had placed a
$250 limit on the credit available to the defendant, it should not have permitted the
charges on his card to exceed that limit. Thus, defendant would in no event be liable for
more than $250.
In three cases, the holder had entrusted his card to a party who bore some special
relationship to him, which was sufficient to make him responsible for the party's use of
34
35
36
492
CREDIT CARDS
The card involved in Union Oil Co. v. Lull" was stolen six weeks
before its expiration date, at the time the holder received a replacement
card for the following year. Using the still valid original card, the thief
made fifty-five unauthorized purchases totaling $1,454.25. Because
he had the replacement card, the holder did not know of the card's
loss until he received his monthly statement, at which time he notified
the issuer. The issuer sued, relying on a contract clause" which provided:
The customer to whom this card is issued guarantees payment
within 10 days of receipt of statement, of price of products
delivered or services rendered to anyone presenting this card,
guarantee to continue until card is surrendered or written
notice is received by the company that it is lost or stolen."
The trial court had taken the position that the holder would be
excused from performance of the contract provisions if, in his possession and use of the card and in giving notice of its loss and unauthorized use, he had acted as a reasonable man. The Oregon Supreme
Court disagreed and remanded. The contract provided for liability until notice and not simply the exercise of due care by the holder. However, the clause was drafted as a guarantee of payment by the holder
rather than as a direct and primary obligation. Since the only benefit
accruing to the holder was the convenience in using the card, the guarantee was "essentially gratuitous." From this and the fact that the
guarantor-holder had no control over the acts of the principal debtor
(the wrongdoer), the court concluded that the contract embodied an
the . card. Sinclair Ref. Co. v. Consolidated Van Sr Storage Cos., supra note 13 (employee);
Kane v. Standard Oil Co., 108 Ga. App. 602, 133 S.E.2d 913 (1963) (employee); NeimanMarcus Co. v. Viser, 140 So. 2d 762 (La. Ct. App. 1962) (estranged wife). Contra,
Socony Mobil Oil Co. v. Greif, 10 App. Div. 2d 119, 197 N.Y.S.2d 522 (1960).
Finally there is Read v. Gulf Oil Corp., 114 Ga. App. 21, 150 S.E.2d 319 (1966). A
letter to the author from Mr. Thomas Elliott, Esq., attorney for Mrs. Read, dated
January 19, 1967, indicates that Mrs. Read first gave notice by telephone and was told
"not to worry about it—that Gulf Oil would take care of this." A few days later she
confirmed the notice by certified mail. However, she was the owner of two Gulf cards
and in the letter gave notice to cancel the wrong card. Gulf contended that it had not been
effectively notified of the loss. Without mentioning this problem, the appellate court
reversed the trial court's grant of a new trial and reinstated a verdict for Mrs. Read. This
raises the question of the quality of notice to be given the issuer. Cf. U.C.C. § 4-403.
This problem has not been discussed by any commentator.
37 220 Ore. 412, 349 P.2d 243 (1960).
38 Lull argued that he was not bound by this clause, since it was not referred to in
the application form he signed. The clause was printed, in small type, on the back of a
card which was 04 inches by 3 1/4 inches. But the issue was lost because it was not
raised in the pleadings; if properly raised, it would have been a jury question. Id. at 419,
349 P.2d at 247.
38 Id. at 416, 349 P.2d at 245.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
implied promise by the indemnitee-issuer to exercise due care to protect the guarantor-holder, citing, inter alia, Williams Roofing Co."
In the new trial, it was logical that the issuer should have the
burden of proving its exercise of due care, since it was the plaintiff, and
since it was the only party that could testify to the care taken (through
its gas station attendants). As a practical matter, this meant that the
holder would undoubtedly win, since it is unlikely that an attendant
could remember what he did in an individual transaction which occurred
some months or years earlier.' Nor could the issuer rely on the routines
of gas station attendants, which are far from standardized.
The issuer had better luck in Texaco, Inc. v. Goldstein." That
court held the holder liable for the charges incurred before notice,
finding the agreement eminently fair." This contract provided for a
sharing of the risk of a lost or stolen card, the holder bearing the risk
until notice and the issuer bearing the risk thereafter.
In Diners' Club, Inc. v. Whited," the back of the credit card
contained a clause reading as follows: "If this credit card is lost or
stolen, original holder is liable and responsible for all purchases charged
through use of this card until [he gives] . . . written notice of its loss
or theft." In a suit for $1,622.99 against the holder for charges incurred
before notice,' the trial court held for the plaintiff issuer. In reversing
the decision on appeal, the Los Angeles Superior Court agreed with
Williams Roofing Co." and LuWI that the issuer and merchant each
owe to the holder a duty of due care to see that irregular charges are
not incurred. It also agreed that as assignee of the merchants' rights, the
issuer was subject to the holder's defenses against the merchants, and
that as plaintiff, the issuer had the burden of proof as to the exercise of
due care. This would normally have necessitated reversal and remand
for a new trial.
The holder attempted to avoid a new trial by arguing that he
so Supra note 29.
41 Whether plaintiff must prove due care or defendant its absence, the party
so burdened finds itself—in the circumstances of the instant case—defeated: it
would be highly improbable that a service station attendant would be able to
recall his actions in regard to any particular transaction, whether or not due
care was in fact exercised; and the costs of locating the proper witnesses and
taking depositions would exceed the amount in controversy. The Oregon court
has, then, cast upon the oil company all losses that occur as a result of misuse
of its credit cards.
109 U. Pa. L. Rev. 266, 268 (1960).
42 34 Misc. 2d 751, 229 N.Y.S.2d 51 (Munic. Ct. New York City 1962), aff'd mem.,
39 Misc. 2d 552, 241 N.Y.S.2d 495 (Sup. Ct. 1963).
45 The contract was printed only on the back of the card. See pp. 498-501 infra.
44 Civ. No. A 10872, Los Angeles Super. Ct., Aug. 6, 1964.
45 Another $285.26 in charges were incurred after notice.
46 Supra note 29.
17 Supra note 37.
494
CREDIT CARDS
should not be liable for the unauthorized use of his card. His agreement
with the company provided that the card was not transferable and
would "be honored only when properly signed and presented by the
authorized holder." While the court found "much merit to this argument," it did not consider it further, since there were other grounds
on which to reverse without remand, and, said the court, the problem
was without general significance because the issuers could avoid the
problem in the future by properly drafting the contract, by eliminating
the need for a signature, and by snaking the card transferable."
The court decided not to remand, because the issuer suffered no
damages. Its contracts with the merchants called for the purchase of all
"valid" charges represented by a sales slip containing the "signature"
of the holder, which was required to be "the same" as that on the card.
Obviously these conditions had not been met. To keep the goodwill of
the merchants, Diners' Club had paid all of the invoices even when they
knew they were paying on forgeries. This, the court said, "is promotion,
not damages, and should be charged to that account."i 9 The court
recognized, however, that Diners' Club could change this result in the
future by assuming in advance the responsibility to pay merchants on
forged invoices or if due care had been exercised.
The most recent case reported is Allied Stores v. Funderburke,"
which is unique in having been decided under a statute governing credit
cards." The plaintiff, a department store, issued credit cards entitling
patrons to $200 credit (or more, by special arrangement) at its store.
Defendant holder apparently lost her card sometime in June 1965;
by July 13, someone had used it to make 237 purchases totaling $2,460.
Because she had been out of the city, the holder did not discover her
loss until July 14, when the issuer requested to see her concerning this
unusual activity.
The application form which the holder had signed contained a
provision obligating her "to pay for all purchases made by any person
presenting the identification plate which Seller will lend me, until
Seller receives my notice by certified mail that same has been lost or
stolen."" The court determined that this contract, which it found to
be binding on the holder," "does not expressly provide that the holder
assumes all risk occasioned by loss or theft of the credit card where the
48 The court cited Texaco, Inc. v. Goldstein, supra note 42, to show that the result
might be different if the issuer did not require a signature on the card or restrict transfer.
49 Civ. No. A 10872, at 6. But cf. Carlyle v. Humble Oil & Ref. Co., 114 Ga. App.
115, 150 S.E.2d 299(1966).
50 277 N.Y.S.2d 8 (N.Y. City Civ. Ct. 1967).
51 N.Y. Gen. Bus. Law § 512 (McKinney Supp. 1966).
52 277 N.Y.S.2d at 10.
53 See pp. 499-501 infra for a discussion of the notice requirements of 512.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
credit card holder is unaware of such facts and thus is unable to give
the required notice.""
The court then construed Section 512 of the General Business
Law, which provides that "a provision to impose liability on an obligor
for the purchase or lease of property or services by use of a credit card
after its loss or theft is effective ... only until written notice of the loss
or theft is given to the issuer." Feeling that neither the statute nor the
contract established any rule governing this situation, the court held
that its decision must be based on the common law, which has for
centuries "been founded on the principle that there can be no liability
without fault."" On this basis, the court found the holder not liable.
The mere fact that a thief had acquired the holder's card did not show
any negligence on her part. On the other hand, the issuer's conduct had
contributed to the loss, since such a large number of purchases were
permitted to occur, and credit exceeding the store's $200 limit was
extended. The fact that the issuer did not discover these facts until the
sales slips had been run through its data-processing equipment was no
excuse. However necessary electronic data-processing equipment may
be, "it is manifestly unfair to shift the burdens of its inadequacies or
failures to the innocent consumer?'" The court distinguished Texaco
and Lull (which it seems to have misread as placing the burden of
proving negligence on the holder)" on the basis that this was a "modest
two-party arrangement entitling the user to credit at the plaintiff's store
and no other.'" For this reason there was no difficulty in placing a duty
of due care on the issuer. The issuer's alternative argument based on
the transferability of the card was rejected by treating it as an agency
problem: The holder did not authorize anyone to use her card nor
ratify its use by knowingly neglecting to notify the issuer of its loss;
therefore, she could not be liable for the actions of the user.
Although it must be observed once again that there have not been
enough decisions in the area to draw any very secure conclusions, it is
clear that both surrender and notice clauses have fared surprisingly
poorly. In only two cases has such a clause been unequivocally upheld; 59 in Williams Roofing Co., Lull, and Diners' Club, the courts read
into the contract an implied obligation of due care on the part of the
issuer in the acceptance of the card for goods or services; in Funderburke, the clause was limited even more severely. Moreover these
courts required the issuer to show the use of due care by merchants who
277 N.Y.S.2d at 11-12.
Id. at 13.
Id. at 15.
See id. at 14.
58 Ibid.
59 Texaco, Inc. v. Goldstein, supra note 42; Magnolia Petroleum Co. v. McMillan,
supra note 26.
54
95
96
97
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CREDIT CARDS
were not its agents but were independent contractors. When this issue
was first raised in Williams Roofing Co., the court stated:
If these dealers were independent contractors and not agents
of appellant, it necessarily follows that they were assignors
of the forged invoices upon which appellant seeks to recover
. . . . [A]ppellant, as assignee, acquired no greater right than
his assignors . . . . It is well-settled that the assignment of a
non-negotiable instrument passes the rights of the assignor
subject to all defenses that would be available if the assignor
brought suit direct on the instrument.. . 6 °
The same result was reached in Diners' Club and in Lull, which
quoted extensively from the Williams case. In Diners' Club, the court
referred to the theory, developed in a comment in the California Law
Review, that the holder's obligation in a three-party credit-card transaction may be directly to the issuer rather than by assignment from the
merchant," although the language of the merchant-issuer contracts
before the court called for an assignment. A simple change in these
contracts might well have led the court to recognize a direct obligation
from holder to issuer, but the court agreed with the conclusion of the
author of the comment that even if the obligation were direct, it "should
be construed as being conditional upon the merchant's fulfillment of
his obligations under the contract of sale.' Thus, even a direct obligation might have been considered to be conditioned on the merchants'
duty to exercise due care, and consequently unenforceable as a practical
matter.
C. Regulation of Holder-Issuer Contracts
The problems involved in holder-issuer contracts, which are, of
course, drafted solely by the issuer, merit some general consideration.
There is no need to discuss contracts of adhesion in detail at this point.
The phenomenon of private legislation through unilateral contractdrafting is well understood." That such contracts bring uniformity and
certainty to modern business affairs is indisputable. Their use by
businessmen when dealing with each other should be encouraged. But
the legal system should exercise great vigilance when a substantial
portion of an industry unites on a contract clause to be adhered to
ao
208 Ark. at 367, 186 S.W.2d at 793-94.
Comment, The Tripartite Credit Card Transaction: A Legal Infant, 48 Calif.
L. Rev. 459 (1960).
62 Id. at 487.
63 The classic discussions are in Isaacs, The Standardization of Contracts, 27 Yale
L.J. 35 (1917), and Kessler, Contracts of Adhesion—Some Thoughts About Freedom
of Contract, 43 Colum. L. Rev. 629 (1943). Of particular relevance to credit cards is
Macaulay, Private Legislation and the Duty to Read—Business Run by IBM Machine,
The Law of Contracts and Credit Cards, 19 Vand. L. Rev. 1051 (1966).
61
497
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
by consumers. The consumer's only alternatives are to abstain completely from dealing in the field or to attempt to find one of the few
businessmen who does not rely on such contracts. As the form contract
moves toward universal adoption (which seems to be the case with
the notice clause), the consumer has little choice left.
If a prospective holder is to decide intelligently whether use of
credit cards is worth the risk of liability-until-notice, he must be aware
of the potential consequences. It cannot be said that the issuers have
been eager to inform him of them. Sometimes the clause imposing
liability is found on the application form, sometimes on the back of the
card, sometimes in the literature accompanying the card, and of ten in
small type."
Whether a holder is bound by such provisions on the back of his
credit card when he disclaims knowledge of them was discussed for the
first time in Union Oil Co. v. Lull.' The application form contained no
reference to the holder's liability for unauthorized use of the card by
another person, and the printing on the back of the card was small.
Unfortunately these issues had not been properly raised at trial. If they
had been, said the court, there would have arisen a jury question as to
whether the printed conditions formed part of the contract.
The question was properly raised in the trial court in Texaco, Inc.
v. Goldstein,"" where the notice provision, again absent from the application form, was printed in the middle of a paragraph on the reverse side
of the card. The face of the card provided that its use constituted
acceptance of the provisions on the back. The court dismissed the application form as a mere invitation to do business. "The issuance of the
card to the defendant amounted to a mere offer on plaintiff's part, and
the contract became entire when defendant retained the card and thereafter made use of it. The card itself then constituted a formal and
binding contract.''"' Although not without support, this proposition is
questionable. The application form and the back-of-the-card provisions
(and the literature accompanying the card, if any) can be regarded as
parts of an integrated contract," leaving open the question of whether
84 For a particularly good discussion of the degree of notice given by the oil industry,
see id. at 1086-98.
65 Supra note 37.
56 Supra note 42.
67 Id. at 754, 229 N.Y.S.2d at 54.
68 According to Goldstein, the application form is an offer to do business, the
sending of the credit card with a liability-until-notice clause is a counteroffer with
inconsistent terms, and retention and use of the card by the holder is acceptance of the
counteroffer. Counteroffers to nonmerchants to be accepted by silence border on deception.
As between merchants, cf. U.C.C. § 2-207(2).
Offer and acceptance are even less obvious in the retention of an unsolicited card.
In the first several months of the Midwest Bank Card system, 4,000,000 unsolicited
cards were distributed. One man was reported as having received eighteen cards
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CREDIT CARDS
the holder has a duty to read every word of all three writings for
possible contract language.
The events litigated in Goldstein occurred prior to the enactment
of Section 512 of the New York General Business Law, but the case
was decided subsequent to enactment. The statute declares that any
provision placing on the card holder liability for unauthorized use
must appear on the card, on a writing accompanying the card when
issued, or on the application form in eight-point or larger type. The
statute assumes that the provision is binding so long as adequate notice
has been given. The Goldstein court used the enactment of section 512
to show that "the Legislature acknowledged the validity of the agreement between the parties to the action as it existed on the date when the
credit card was issued by the plaintiff to the defendant . . . but
it dismissed Texaco's use of five- or five-and-one-half-point type by
saying that the requirement of eight-point type was only for "subsequent credit cards.""
A recent study of oil-company credit cards concluded that the
notice provision was somewhat more prominently set out in their 1966
application forms and cards than in those of 1963. 71 In part this was
attributed to the New York legislation and the hint in Lull that the
notice in that case was not sufficient. However, the practices of the
issuers still leave a great deal to be desired. Standard Oil Company of
Indiana has recently made significant alterations in the holder's obligation for unauthorized use by changing the conditions on the back of the
card. 72 The literature accompanying replacement cards points out only
personally, with others going to his sons aged 11, 13, and 15. Another man reported
that his three-year-old boy had received two cards. Wall Street Journal (Midwest Edition), Jan. 17, 1967, p. 1, col. 8.
69 34 Misc. 2d at 755, 229 N.Y.S.2d at 56.
79 Although it is not crucial to the court's opinion, the statute does apply to credit
cards issued prior to its passage, but not, of course, to transactions which had occurred
prior to its effective date. Section 512 provides, in part:
Such a provision either in a credit card issued prior to the effective date of this
article, or in a writing accompanying such a card when issued, or in the obligor's
application for such a card is effective, on or after the effective date of this
article, only if the issuer mails to the obligor, properly addressed, written notice
of the provision conspicuously written or printed in a size at least equal to
eight point type.
What constitutes fair notice does not change by the date of the card's issuance, but
the court was overriding any argument in the holder's favor.
71 "In sum, there has been some improvement in visibility and understandability,
but there is room for more." Macaulay, supra note 63, at 1099.
72 Standard Oil added the following provision to its cards: "No card which customer
has voluntarily permitted another party to use shall be considered as lost or stolen,
regardless of difficulty in securing its return. Customer's approval of all purchases by
such other party is conclusively presumed." It would appear that this clause is intended
to reverse the result of Abraham & Straus v. Teller, 37 Misc. 2d 797, 236 N.Y.S.2d
435 (1962) and Socony Mobil Oil Co. v. Greif, supra note 36. If the first sentence is
taken literally, a holder would be liable for the charges incurred by a thief of his wife's
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
that the card is "new"—the holder's address has been left off so that if
he moves he can continue to use it at his new address without difficulty.
An application form for Diners' Club, which this author acquired in a
Washington, D.C. hotel in December 1966, contained no reference to
the holder's liability for unauthorized use. Furthermore, the entire
agreement of Illinois Bankcharge, a major consumer card in use in the
Chicago area, is printed in small blurry type squeezed into the top third
of the rear of the application form, leaving the remainder empty."
In spite of this poor record on the part of the issuers, there is little
question. that many holders, maybe even most, know they should
notify the issuer if their card has been lost. This may reflect merely an
intelligent appraisal of the use to which a finder or thief could put the
card, or it may be the result of the many articles on credit cards discussing the potential liability of the holder which have appeared in the
public press in the last few years. Certainly the advertisements of the
insurance companies offering credit-card insurance, and those of some
issuers such as American Express and Diners' Club which limit liability
to $100, have had some effect. Nevertheless, adequate notice by the
issuer should be a minimum requirement before any liability is placed
on the holder. It costs the issuers nothing except the possibility that,
apprised of their contractual obligation, some consumers would decide
not to enter the contract. While the issuers would suffer a real loss, it is
not one of which they can legitimately complain.
There are three elements to adequate notice. First, the language
must be reasonably understandable by its recipient. A provision, for
instance, that says "I promise to pay all charges" is not likely to convey
to the average holder that this may include charges incurred by a thief
of the card.'" Second, the notice must be in a location where it is likely
to be read prior to the prospective holder's decision to apply for or
keep the card. The face of the application form is the logical place if
notice is truly intended. Some issuers already do this, and there is little
doubt that the form can always be drafted so as to accommodate the one
sentence necessary. What does present some difficulty is giving notice
with respect to an unsolicited card. There is no reason to expect the
receiver to read every word on the card and in all of the advertising
literature which is sent with it. Perhaps the difficulty can be resolved
by requiring the issuer to show that the location of the clause is
card even after notice. The second sentence may limit the holder's obligation to those
purchases made by "such other party."
73 It is also printed in large clear type on page 62 of the 64-page Merchant Directory
which accompanied the unsolicited Illinois Bankcharge card sent to the author in 1966 at a
former Illinois address.
7 4 A December 1966 Carte Blanche application form provided: "If this application
is accepted and a charge card issued, I promise to pay all charges incurred and agree to
the terms and conditions accompanying the card."
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CREDIT CARDS
calculated to bring it to the holder's attention. Finally, the type size and
style and the layout must be such as to make it likely that the provision
will be read. Specifying the type size is not sufficient. Even though
printed in the largest type which could reasonably be required, the
likelihood that the provision will be seen can be reduced by the use of
closely set lines of equally large or larger type and by burying the
provision in question in the middle of a long paragraph."
Measured by these standards, the New York statute is grossly
inadequate. It requires that eight-point type be used and that the
provision be somewhere on the application form, the credit card, or the
accompanying literature. The effect of such a limited regulation is likely
to be that courts will look only to the formal requirements of the
statute without questioning the adequacy of the notice in fact, even
though the statute requires that the provision be "conspicuously"
printed." This was the attitude of the municipal court in Goldstein.
It would be a better policy if the statutory requirement were simply
one of adequate notice. It is not difficult for an issuer to meet this
standard, and it would eliminate the necessity for a legislatively determined method of presentation.
D. Statutory Apportionment of Loss
As the law stands at present, neither issuer nor holder can be sure
of his rights and obligations. Although the factual patterns are repetitive
and not complex, the few cases go in too many directions, and only one
of the post-1945 cases emanates from a state supreme court." It seems
likely that issuers who actively enforce the liability clause do collect
from their holders a very large percentage of unauthorized charges
without litigation. It is also very likely that many people who are
shown what appears to be a binding contract holding them liable will
not know enough to turn to a lawyer, but would be inclined to pay the
entire bill.
Statutes such as the one recently enacted in New York provide
only a partial solution to the problem of apportioning the loss engendered by the unauthorized use of credit cards. The consumer needs
protection not only against deceptive practices by issuers but also
n Possibly the term "conspicuous" should be used to cover type size, location, etc.
U.C.C. § 1-201(10) defines "conspicuous":
A term or clause is conspicuous when it is so written that a reasonable person
against whom it is to operate ought to have noticed it. A printed heading in
capitals (as: NON-NEGOTIABLE BILL OF LADING) is conspicuous. Language
in the body of a form is "conspicuous" if it is in larger or other contrasting
type or color .. .. Whether a term or clause is "conspicuous" or not is for
decision by the court.
76 See Texaco, Inc. v. Goldstein, supra note 42. But see Allied Stores v. Funderburke,
supra note 50.
77 That case is Union Oil Co. V. Lull, supra note 37.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
against unfair contract provisions forced upon him by the issuer's
superior bargaining power. Of course, all contracts are subject to the
law under which they are drawn, and most jurisdictions refuse to enforce "unconscionable" clauses, but what is needed is a solution specially adapted to the needs of credit-card transactions. Because of the
national scope of the problem, this solution ought to be a uniform one.
1. Uniform Commercial Code. One method of solving the unauthorized-use problem would be to decide that bank-issued credit
cards are letters of credit under Article 5 of the Uniform Commercial
Code." They appear to be within the scope of section 5-102(1)(a),
which provides that Article 5 applies "to a credit issued by a bank if
the credit requires a documentary draft or a documentary demand for
payment .. .." According to section 5-103 (b), a documentary demand
for payment "is one honor of which is conditioned upon the presentation of a document or documents. 'Document' means any paper including document of title, security, invoice, certificate, notice of default and
the like." Since payment to the merchant is conditioned on the presentation of the sales slip or invoice, this criterion is met."
If the issuer of a letter of credit has duly honored a demand for
payment, it has the right to reimbursement from its customer (the
holder) even though the documents were forged or fraudulent or there
was fraud in the underlying transaction." The issuer may even honor
78 Non-hank issuers could bring themselves under Acticle 5 by conspicuously placing
the words "Letter of Credit" or an equivalent identification on their cards. If a non-bank
issuer did so, the remainder of this discussion would apply equally to it. See U.C.0 §
5-102(1)(c). A not-very-helpful definition of "bank" is given in U.C.C. § 1-201(4).
70 it is possible that, in order to have their credit cards regarded as letters of credit
under Article 5, banks would have to make a special effort. If § 5-103(a) is combined
with § 5-104(1), it can be argued that a written promise to honor merchants' demands
for payment would have to be placed on the card itself. Alternatively, the merchantissuer contracts may be thought to serve this purpose.
Several law review articles have rejected the suggestion that the credit card be
analogized to the letter of credit. Comment, The Lost Credit Card: The Liability of the
Parties, 30 Albany L. Rev. 79, 87 (1966); Comment, The Tripartite Credit Card
Transaction: A Legal Infant, 48 Calif. L. Rev. 459, 465 (1960); 35 U. Cinc. L. Rev. 424,
430 (1966). Contra, 35 Notre Dame Law. 225, 226 (1960). None of these articles
discussed the scope note in § 5-102 or the significance of a bank as the issuer. This
author has been told that some bank issuers believe their cards are letters of credit under
Article 5.
so U.C.C. § 5-114(2) (b). The relevant portions of § 5-114 provide:
(2) Unless otherwise agreed when documents appear on their face to comply
with the terms of a credit but a required document does not in fact conform to
the warranties made on negotiation or transfer of a document of title (Section
7-507) or of a security (Section 8-306) or is forged or fraudulent or there is fraud
in the transaction
(a) the issuer must honor the draft or demand for payment if honor is
demanded by a negotiating bank or other holder of the draft or demand
which has taken the draft or demand under the credit and under
circumstances which would make it a holder in due course (Section
3 302) and in an appropriate case would make it a person to whom a
-
502
CREDIT CARDS
the demand for payment despite notification from the customer of
fraud, forgery, or other defect not apparent on the face of the documents if the issuer does so in good faith.' In fact, the issuer would be
required to honor if the invoice had been presented to an intermediary
bank for collection and that bank had, in good faith and without
notice of any defect, "given credit available for withdrawal as of right
. whether or not the credit is drawn upon and whether or not there
is a right of charge-back.ie' This probably describes the standard
method of collecting charges due on bank-issued credit cards.
Good faith" might not permit the issuer to demand reimbursement
for payments made to a merchant on sales slips known by the bank to
be forged at the time of initial payment, unless the terms of the credit
did not condition payment on the genuineness of the customer-holder's
signature. But Article 5 would require reimbursement for all payments
made while the issuer had a good-faith doubt as to whether the signature had been forged 84 or was unaware of the forgery, even though the
merchant had been negligent.
Actually, to apply Article 5 of the Uniform Commercial Code to
bank-issued credit cards would be a misapplication of sound doctrine.
Defects in the documents supporting a letter of credit, or fraud in the
underlying transaction, are the fault of the seller with whom the buyer
chose to do business and with whom the issuing bank need have had no
contact. On the other hand, the fraud in a credit-card case is perpetrated by an impostor posing as the holder-buyer. The rightful card
holder in most cases has had no contact with the merchant from whom
the impostor purchased the goods or services. But the merchant was
enlisted by the issuer and is subject to a fair degree of control.
Merchant-issuer contracts often provide for charge-back of sales made
by the use of stolen cards on the "hot list" and (as seen in Diners'
document of title has been duly negotiated (Section 7-502) or a bona
fide purchaser of a security (Section 8-302) ; and
(b) in all other cases as against its customer, an issuer acting in good faith
may honor the draft or demand for payment despite notification from
the customer of fraud, forgery or other defect not apparent on the face
of the documents but a court of appropriate jurisdiction may enjoin
such honor.
(3) Unless otherwise agreed an issuer which has duly honored a draft
or demand for payment is entitled to immediate reimbursement of any payment
made under the credit and to be put in effectively available funds not later than
the day before maturity of any acceptance made under the credit.
81 Ibid.
82 U.C.C. § 4-208(1)(6). To reach this conclusion, it is necessary to relate four
sections of the Code: Section 5-114(2)(a) refers to § 3-302, which is explained by §
4-209, which is, in turn, given meaning by § 4-208.
88 "Good faith" is defined in U.C.C. § 1-201(19) as "honesty in fact in the conduct
or transaction concerned."
84 U.C.C. § 5-114, Comment 2.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
Club)" sometimes provide for charge-back if the signature on the
sales slip deviates markedly from that on the application form. Since
the merchant is more nearly the agent of the issuer, the issuer, and
not the holder, should assume responsibility for his negligence and
fraud."
2. Liability-Shifting Proposals. A solution which would be preferable to classifying credit cards as letters of credit would be to share the
risk—shifting the risk from the holder when notice is given, when the
loss reaches a certain amount, or when the first of those events occurs.
This solution has the advantage of widespread acceptance. No reported
case has ever gone beyond the point of liability-until-notice in giving
judgment for the issuer, and even those courts which have found an
implied duty of due care on the part of the issuer and merchant have
recognized the validity of notice as a risk-shifting event." Notice
clauses are used by nearly all the major issuers, although American
Express and Diners' Club have recently adopted the use of clauses
limiting the holder's liability to $100. Finally, the only statute which
regulates the field, enacted in New York in 1962, goes no further than
to outlaw contract provisions imposing liability on the holder after he
has given to the issuer notice of loss."
The purpose of dividing the risk of loss between the holder and the
issuer is, at least partly, to induce each party to exercise care to prevent
such losses. At a minimum, the holder should keep his card reasonably
safe from theft and loss, and should promptly discover and report any
mishap. The issuer should exercise control over its merchants and insure
that they exercise care in accepting cards; it should also see that they
are promptly notified about lost cards.
The use of notice as the risk-shifting event has been said to result
in a reasonable allocation of the loss," and appears to serve this
purpose efficiently. On close examination, however, this is doubtful
See p. 495 supra.
It is possible to conceive of a merchant or his employees deliberately forging
invoices in a holder's name and absconding. Article 5 would require the holder to bear
the risk of this as against the issuer, even though he had neither lost his card nor
contributed to the practice in any way.
As bank-issued credit-card systems expand from local to regional and eventually
to national systems, the issuer will lose contact with the selling merchant. Nevertheless,
it will remain true that the holder will have had no contact with the merchant and that
the merchant was chosen to participate in the system by a member bank. Letter-of-credit
doctrine will be no more appropriate to the allocation of loss from the unauthorized use
of national bank-issued credit cards than from local ones.
8 7 See Diners' Club, Inc. v. Whited, supra note 44; Union Oil Co. v. Lull, 220 Ore.
412, 421, 349 P.2d 243, 247 (1960).
88 N.Y. Gen. Bus. Law § 512 (McKinney Supp. 1966).
89 Union Oil Co. v. Lull, supra note 87, at 421, 349 P.2d at 247, said the bargain
was "not an unreasonable one," and Texaco, Inc. v. Goldstein, supra note 42, thought it
highly reasonable.
85
86
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CREDIT CARDS
in many cases. The only purpose of notifying the issuer is to permit him
to inform merchants not to accept the card. Some issuers take up to
thirty days to do this, and others have completely abandoned the
practice of circulating "hot lists" because of the cost. Notification to
these issuers is a meaningless act. To use it as the event shifting liability
merely results in an arbitrary allocation of the loss. On the other hand,
notification is a significant event to those issuers who pass it on to their
merchants promptly, and, if liability is to be shifted, doing so at that
time is reasonable.
It has been argued that the $100-deductible rule is as effective
as the liability-until-notice rule in inducing holders to exercise care, and
is preferable because it rids the holder of a potentially onerous
burden.°° Issuers may be moving in this direction because of competitive pressures.'" If all issuers were to go to a deductible system,
the liability of the holder would be so small that lost-card litigation
would be rare, and the social problem negligible. But it is unlikely that
the oil companies and many of the other card issuers will be pushed by
competition to this result. Most issuers can be expected to continue
to contract for full liability-until-notice, unless forbidden to do so by
law.
3. A Suggested Approach. The arguments in favor of both
liability-until-notice and the $100 limitation are based on the premise
that the holder can reduce the loss from unauthorized use by guarding
his cards more carefully and by notifying the issuer once they are lost
or stolen. The courts in Gulf Ref. Co. v. Williams Roofing Co.,"
Union Oil Co. v. Lull," and Diners' Club v. Whited" recognized that
the loss could also be caused in part by the failure of the merchant to
exercise due care in accepting the card. What has been overlooked is
the fact that the loss is largely caused by the issuers' business decision
to use a form of card which contains no identification of the holder
except his name and possibly his address and a space for his signature,
and to permit use of the card by the holder's relatives and friends."
It would not be difficult to increase the amount of identification on a
card. Each card would have to be individualized and nontransferable,
with additional individualized cards issued for the wife, children, em90
Macaulay, supra note 63, at 1116.
A full-page advertisement in the Chicago Daily News, Dec. 30, 1966, p. 4 announced a $50-deductible card under a bold headline "Now FirstCard is the only
Midwest Bank Card that protects you against loss, theft or unauthorized use."
92 208 Ark. 362, 186 S.W.2d 790 (1945).
93 Supra note 87.
94 Civ. No. A 10872, Los Angeles Super. Ct., Aug. 6, 1964.
95 The cases indicate that the holder is more likely to be held liable if the card
is transferable than if it is nontransferable. This should not be the case. It is the issuer
who decides that the card will be transferable. He should bear the risk that the merchant
will have no means of doubting the presenter's authority.
91
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
ployees, or other persons who are to have charge privileges to the
holder's account. Simple forms of identification which could be embossed on present style cards are sex, height, eye color, etc., with which
all are familair. Oil-company cards might have the license numbers of
the holder's cars. Pictures can be laminated into the card. It has been
suggested that the card of the future will contain a machine-language
profile of the holder's voice which will be automatically compared with
that of the presenter."
Only an engineer can say to what extent and at what cost cards
can be individualized so that busy, untrained sales personnel can make
positive identification. At the present time, the cards are purchased in
bulk from the manufacturer at prices as low as one or two cents per
unit, when purchased in large quantities. The issuer embosses the
holder's name, address, and account number on the card. This individualized operation substantially increases its cost, but it remains a
relatively inexpensive operation. To add personal data such as sex,
height, weight, eye color, etc. to the card would probably not increase
the cost very much. But using pictures or voice recordings would
demand the time of the applicant and special manufacture of each
card. Perhaps more importantly, means of identification which demand
sophisticated equipment at the point of sale may be useful only where
there is a high dollar volume, although it has been suggested that the
availability of such equipment may be radically extended by the use of
specialized telephone equipment."
The point is not whether there are at present economically feasible
means of identifying card holders; rather, it is that such technical innovations will be developed and used only if large-volume issuers are
sufficiently interested. Their interest is diluted when the holder bears a
major portion of the loss. Therefore, recognizing that the principal
contributing factor to the unauthorized use of lost or stolen cards is
the ease of use by a thief or finder, the issuer should bear the entire loss
as between it and the holder, absent special circumstances. This is not a
radical suggestion. Credit cards could be governed by the same rules
which now govern check collection. The mechanical processes involved
are closely similar. In the bank-sponsored credit-card plans, a merchant
deposits his sales slips in his local bank and receives immediate credit
for his deposit less a discount, which is typically five per cent. The slips
are then transmitted to the sponsoring bank for payment in the same
manner as are checks. It is difficult to see any reason to distinguish a
forged sales slip from a forged personalized check.
A bank which is presented with a forged check is not required to
06 Livingston, Banking's Role in a Credit Card Economy, Banking, Sept. 1966, pp.
III, 112. Mr. Livingston is a vice-president of Bankers Trust Company.
97 Id. at 113.
506
CREDIT CARDS
pay, and, if it does pay, the bank can neither charge its customer's
account" nor recover the payment from a holder in due course or a
person who in good faith has relied on the payment.'" The customer's
account can be charged if his negligence substantially contributed to
the making of the forged signature,'" but loss or theft of checks
personalized with the customer's name, address, and account number
does not necessarily constitute negligence, and the customer has no
duty to notify the bank of such loss or theft."'
Once the forged or altered items are sent to the customer with the
statement of account, however, he "must exercise reasonable care and
promptness to examine the statement and items to discover his unauthorized signature or any alteration on any item and must notify the
bank promptly after discovery thereof." 102' His failure to do so permits
the bank to charge his account for the item, if it can show that such
failure caused it to suffer a loss. The bank may also charge the account
for any forged or altered items which are paid by the bank more than
a reasonable time (not exceeding fourteen days) after the statement
was available to the customer and prior to his notification of the wrongdoing. However, the bank may not charge the account if the customer
establishes lack of ordinary care on the part of the bank.'
The card holder should be held to a similar duty of care. Gulf Ref.
Co. v. Williams Roofing Co.' illustrates the holder's duty. The holder,
a small company, paid Gulf bills for the months ending September 25
and October 25, 1939, which included forged invoices amounting to
$275. It notified Gulf of the forgeries on December 6, 1939. Under the
proposal suggested above, the holder would be liable for forged invoices
in the September 25 statement and for those executed within fourteen
days after the statement was received, but only to the extent that
Gulf could show that it suffered a loss by reason of the holder's twomonth delay in notification. 1 " i In the instant case Gulf probably
would not have prevailed since "the culprit who committed the forgeries
98 U.C.C. § 4-401(1) provides: "As against its customer, a bank may charge against
his account any item which is ... properly payable... ."
°° U.C.C. § 3-418.
100 U.C.C. § 3-406.
101 Leff v. Security Bank, 93 Misc. 139, 157 N.Y. Supp. 92 (Sup. Ct. 1916); Pure
Oil Pipe Line Co. v. Columbia Nat'l Bank, 275 Pa. 547, 119 All. 607 (1923); 2 Paton,
Digest of Legal Opinions 1818 (1940); Annot., 126 A.L.R. 613 (1923). But see Frankini
v. Bank of America Nat'l Trust & Say. Ass'n, 12 Cal. App. 2d 298, 55 P.2d 232 (1936),
holding it to be a jury question whether the drawer negligently caused the forgery by
leaving blank checks, the green ink he always used, and his protectograph on his desk
in his home.
102 U.C.C. § 4 - 406(1).
§ 4-406(2),
(3).
Supra note 92.
It seems only reasonable to measure the holder's responsibility by the date
of execution to the merchant rather than payment by the issuer.
104
109
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
seems to be well-known and may be solvent.' No proof of loss would
be necessary for Gulf to recover on the forged invoices executed after
the fourteen days. The holder could defend only by establishing lack
of due care on the part of the issuer or merchant in accepting the card.
In the instant case, evidence of such lack of due care by the merchants
was abundant. Indeed, there was outright collaboration in the fraud.
Nevertheless, it would be necessary for the holder to show lack of due
care in regard to each invoice, since carelessness or dishonesty by one
dealer would not necessarily indicate carelessness or dishonesty by any
other.
There is little doubt that, as between the holder and the issuer, the
issuer must be held responsible for the lack of due care of the merchant.
In spite of the denial of the court in Texaco, Inc. v. Goldstein, 107 the
issuer has substantial control over the merchant, particularly in the
case of oil-company cards. This control is enforced by charging back
the loss if the merchant negligently accepted the card or if the signature
on the credit slip does not reasonably conform to that on the holder's
original application for the credit card.'° 8 This control raises the inference that issuers will be able to avoid the loss sought to be placed
upon them by forcing the merchants to absorb it. However, the merchants are better able to resist pressure from the issuer than are holders.
It is important to the issuer that his cards be accepted by all the major
merchants (airlines, hotels, department stores, etc.) and by a large
number of smaller merchants. Although it is also important to the
merchants to be able to accept credit cards, they ought to be able
to bargain effectively with the issuers.
Social engineering does not always work, and there is no assurance
that placing the loss on the issuer would improve identification on credit
cards.'" But unauthorized use of lost or stolen cards will increase unless
some action is taken. A $50 or $100 maximum liability on the holder
106 Supra note 92, at 370, 186 S.W.2d 795.
1 ° 1 34 Misc. 2d 751, 229 N.Y.S.2d 51 (Munic. Ct. New York City 1962), afi'd mem.,
39 Misc. 2d 495 (Sup. Ct. 1963).
1 ° 8 See the discussion of Diners' Club v. Whited, p. 495 supra. These rules have
created some dissension among the merchants.
[T]he "ungodly" who now make a big business of the misuse of credit cards
have developed quite a number of very effective and quick ways of altering
the cardholder's signature on the credit card. As a result, in all too frequent
cases the employee honoring the card will have compared the signatures and have
found them to be alike and will not, in any way, have realized that the card has
been altered.
Letter from Mr. D. K. Usher, Manager—Traffic Procedures, Pan American World Airways, to the author, Dec. 22, 1966. But cf. Carlyle v. Humble Oil & Ref. Co., 114 Ga.
App. 115, 150 S.E.2d 299 (1966).
109 Macaulay, supra note 63, after a very thoughtful study, concludes that we do
not know enough about the operations of the credit-card business or the probable impact
of a change in the rules to warrant legislative action.
508
CREDIT CARDS
may indeed induce some notification to the issuer of loss or theft of the
card, which would not otherwise be forthcoming, but it is hard to
believe that greater liability has any positive effect. Only action by
issuers and merchants can reduce the losses, and they should be encouraged by the legal system to take those actions or suffer the
consequences of their inaction.
III. ASSERTION OF PERSONAL DEFENSES AGAINST ISSUER
The conflict between the defrauded or disappointed buyer and
the finance company which is a holder in due course of his obligation to
pay is classic. A new aspect of this problem has appeared with consumer credit cards, which may be used to purchase expensive consumer
goods, such as stoves and refrigerators, and not merely toothbrushes
and airline tickets. In his contract with the issuer, the holder normally
promises to pay for all goods purchased with the card, without regard
to any disagreement he may have with the merchant. Often he also contracts for the issuer to extend him credit on a revolving basis.m It has
yet to be decided whether these contracts may be enforced literally.
A. Technical Arguments
. Although the courts refer to the credit card as new and unique,
they are likely to apply traditional rules of law to the new device. This
suggests that the issuer's rights against the holder will be based on one
of four traditional theories: ( I) assignment from the merchant; (2)
the holder's direct promise in consideration of the merchant's extension
of credit; (3) the issuer's status as "payor bank" under Article 4 of
the Uniform Commercial Code; or (4) the issuer's status as issuer of
a letter of credit under Article 5 of the Uniform Commercial Code.
1. Assignment and Direct Promise. Of the four possible theories
upon which the issuer may claim rights against the holder, the two
simplest are (1) assignment from the merchant who sold the goods,
and (2) a direct obligation arising out of the issuer-holder contract,
completed by the merchant's sale of the goods or services. In three
stolen-card cases, it has been held that the issuer was an assignee of
the merchant and was therefore required to show the merchant's
exercise of due care in accepting the card from the thief.' 11 In one of
the cases, Diners' Club v. Whited,' the court suggested that it was
immaterial whether the issuer's claim arose out of an assignment or out
110 As with two-party revolving credit, the holder may pay the entire balance
within twenty-five days of his monthly billing and avoid paying any service charges.
Although details vary from one plan to another, typically he may pay as little as 10%
of the outstanding balance monthly with a service charge of 1% to 2% added to the
outstanding balance not paid within the twenty-five days.
111 See pp. 491-95 supra.
112 Supra note 94.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
of a direct obligation. If it arose out of an assignment, the issuer was
subject to defenses good against the merchant; if from a direct obligation, it "should be construed as being conditional upon the merchant's
fulfillment of his obligations under the contract of sale."'
The characterization as assignment or direct obligation, although
of no consequence in Diners' Club, becomes important when the holderissuer contract contains an agreement to pay in spite of a dispute with
the merchant. This agreement, though made directly with the issuer,
rather than with the merchant as in traditional agreements not to assert
defenses, is subject to Section 9-206 of the Uniform Commercial Code if
the issuer's claim arises out of an assignment of accounts. If the issuer's
claim arises out of a direct obligation, it is not subject to this section.
Section 9-206 provides that:
(1) Subject to any statute or decision which establishes
a different rule for buyers or lessees of consumer goods, an
agreement by a buyer or lessee that he will not assert against
an assignee any claim or defense which he may have against
the seller or lessor is enforceable by an assignee who takes
his assignment for value, in good faith and without notice of a
claim or defense, except as to defenses of a type which may be
asserted against a holder in due course of a negotiable instrument under the Article on Commercial Paper (Article 3).
A buyer who as part of one transaction signs both a negotiable
instrument and a security agreement makes such an agreement."'
This provision changes the prior status of the law in two important
respects as concerns its possible application to consumer credit cards.
First, statutes which allow the consumer to raise claims and defenses
against a holder in due course or good-faith assignee of chattel paper
are made a legitimate expression of commercial-law policy. No longer
can they be treated as "bleeding-heart" legislation destructive of the
legitimate needs of the money market. Second, the provision is a
legislative statement to the courts that they may distinguish between
consumers and nonconsumers. It is doubtful, however, if many courts
will be willing to make such an open and radical break with tradition.
113 The quotation is from Comment, The Tripartite Credit Card Transaction: A
Legal Infant, 48 Calif. L. Rev. 459, 487 (1960). The court itself said only that "we
agree with such other theories" developed in the California Law Review comment when
there is no assignment present in the case. The main alternative theory developed by the
comment was the direct-obligation theory.
114 Section 3-305 describes the rights of a holder in due course: "To the extent that
a holder is a holder in due course he takes the instrument free from . . . all
defenses of any party to the instrument with whom the holder has not dealt . . . ." It
is arguable that the issuer has "dealt" with the holder and is therefore subject to any
defense that the latter can raise to payment.
510
CREDIT CARDS
The only appellate court to which the argument has been raised rejected
it, saying: "While this section provides that either the legislature or
the courts may establish a different rule, we view this as a legislative
function, the exercise of will rather than judgment, and we are reluctant
to change the prior decisional law." 115
In addition, there is little likelihood that any of the current installment sales acts invalidate the agreement not to assert defenses. Installment sales acts were enacted to provide some substitute regulation over
installment sales contracts, which had been exempted by the courts
from the application of the usury laws through the "time-price doctrine."° Since the doctrine applies only between buyer and seller,
installment sales acts are drafted in terms which restrict their application to buyer-seller agreements. As a result, neither the limitations on
interest or service charges found in these acts, nor the limitations on
agreements not to assert defenses found in some of these acts, apply to
three-party credit cards."'
New York has modified its act so as to cover some three-party
financing arrangements by adding a new Section 413.11 to the Personal
Property Law, extending the law's coverage to three-party "retail
installment credit arrangements." However, section 403.3, which limits
the effect Of agreements not to assert defenses, applies only to "contract[s] and obligation [s] ." "Contract" is defined by the act as an
agreement by which a security interest in the goods sold is reserved, 118
which is not the case with the consumer credit card 1'° "Obligation" is
defined to exclude, inter alia, "retail installment credit agreements,'" 2 °
the only three-party financing agreements subject to the act.
Although the current draft of the proposed Uniform Consumer
Credit Code prohibits agreements not to assert defenses, it will not
First Nat'l Bank v. Husted, 57 III. App. 2d 227, 233, 205 N.E.2d 780, 783 (1965).
See Littlefield, Parties and Transactions Covered by Consumer-Credit Legislation,
pp. 463-69 supra.
117 Only nine states limit agreements not to assert defenses in installment sales
contracts other than for the sale of automobiles. Curran, Trends in Consumer Credit
Legislation 312-22 (1965).
The problems of applying the installment sales acts to three-party credit cards
are discussed in Comment, supra note 113, at 494-98; Note, Regulation of Installment
Credit Cards, 35 U. Cinc. L. Rev. 424, 434-45 (1966) ; Note, Regulation of Consumer
Credit—The Credit Card and the State Legislature, 73 Yale. L.J. 886, 898-901 (1964).
118 N.Y. Pers. Prop. Law § 401.6 (McKinney Supp. 1966).
119 The card issuer can insist upon a security agreement covering after-acquired
property purchased through the use of the credit card as a prerequisite to the issuance
of the card or the increase of the credit authorized. U.C.C. § 9-204(4) (b) invalidates
after-acquired security interests in consumer goods only "when given as additional
security unless the debtor acquires rights in them within ten days after the secured party
gives value." If such a security agreement is used in New York, and if it is read in
connection with the basic issuer-holder contract, including the agreement not to assert
defenses, § 403.3 of the Personal Property Law applies.
120 N.Y. Pers. Prop. Law § 401.7 (McKinney Supp. 1966).
115
116
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
apply to credit cards. The Second Tentative Draft of the Credit Code
provides that
with respect to a consumer credit sale a transferee of the
seller's rights is subject to all claims and defenses of the buyer
against the seller arising out of the sale notwithstanding an
agreement to the contrary, but the transferee's liability may
not exceed the amount of the debt at the time the transferee
acquires his rights."'
The drafters, however, do not consider the three-party credit card
transaction to be a "consumer credit sale," but a "loan," and lenders
are, of course, not subject to the borrower's defenses against the seller
of goods purchased with the borrowed money. Section 3.102 of the
Second Draft provides:
(1) "Loan" means .. .
(c) the creation of debt, pursuant to a letter of credit,
credit card, or other preexisting arrangement between the
lender and the debtor,
(1) by the lender's honoring of drafts or similar
instruments for the payment of money drawn on the
lender;
(2) by the lender's payment or agreement to pay
obligations of the debtor; or
(3) by the lender's purchase from the obligor
[obligee] of obligations of the debtor ....
It may be worthwhile to contemplate the implications of this
section as presently drafted. If a three-party credit card is a "loan," as
is clearly intended, the lender (issuer) becomes so either by honoring
"drafts or similar instruments" or by paying "or agree[ing] to pay
obligations of the debtor." If issuers are said to pay or agree to pay
obligations of the debtor (holder), it would seem that those obligations
were at first owed to the merchant. The payment and transfer of the
claim to the issuer would be an assignment of the claim, and, even
though the Credit Code will not render null the agreement not to assert
defenses in the issuer-holder contract, the court would be free to do so
under Section 9-206 of the Uniform Commercial Code.
2. Bank Collection and Letters of Credit. When banks first
entered the credit-card field, some attempted to fit the traditional
negotiable instrument into the transaction. In several early bank plans,
the merchant drew on the holder a negotiable draft payable to the
issuer twenty-five days after demand.' Normally the holder accepted
Credit Code § 2.404 (Tent. Draft No. 2, 1967).
See Robinson, New Developments in Retail Financing, 8 Kan. L. Rev. 554,
567-74 (1960).
121
122
512
CREDIT CARDS
the draft at the time of sale, but in at least one plan he simply
"agree [d] to accept all drafts drawn on [him] . . . for charges incurred
by or in [his] . . . behalf ." 123 The merchant indorsed the draft and
negotiated it to the issuer bank, which presented the drafts monthly to
the drawee-holder for payment within twenty-five days. The procedure
might easily have been varied to approximate more closely a clean letter
of credit. To accomplish this, the draft would have had to have been
drawn by the holder on the issuer bank payable to the order of the
merchant, and presented to the bank for payment. The bank would
have been reimbursed by the card holder at the time provided in their
agreement.
The current system of payment to the merchant by bank creditcard plans is not radically different from this hypothetical system.
One copy of the sales slip acts as a receipt to the buyer-holder. A
duplicate is put in a deposit envelope on which is detailed the total
amount of sales slips being deposited, less the issuer's discount. The
balance is entered on the merchant's deposit slip and credited to the
merchant's account. The slips are then forwarded to the respective
issuers for collection. If the credit card is considered to be a letter of
credit, the issuer is now bound to pay and the holder to reimburse
him. 124 If not, the slips may be considered as "items," to be paid by the
issuer-bank as provided in Article 4 of the Uniform Commercial Code.
Under this theory, the holder is not yet committed. He may stop
payment by phone call or letter, provided his order is "received at
such time and in such manner as to afford the bank a reasonable
opportunity to act on it prior to any action by the bank with respect to
the item . . . .'"" Practically, this means that the holder will have to
act within one to three days to be safe.
B. Policy Arguments
The major argument in favor of relieving the finance company or
card issuer of the debtor's defenses is one of cost. Finance companies
are geared to the smooth flow of repayments. Any controversy which
interrupts the receipt of the monthly check increases the administrative
costs. But set in context this does not appear to be a major problem.
Most buyers are satisfied with the goods and services they have purchased.'" When they are not, in almost every case the merchant is
able to remedy the defect or satisfy the customer's complaint by
crediting his account for the returned merchandise or for a price adjust123 Franklin Nat'l Bank v. Kass, 19 Misc. 2d 280, 281, 184 N.Y.S.2d 783, 785 (Sup.
Ct. 1959).
121 See pp. 502-03 supra.
125 U.C.C. § 4-403(1). See U.C.C. § 4-303.
120 See Kripke, Chattel Paper as a Negotiable Speciality Under the Uniform Commercial Code, 59 Yale L.J. 1209, 1215-16 (1950).
513
BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
ment. A problem exists only if (1) the merchant does not intend to give
satisfaction whether or not the complaint is justified; (2) the merchant
does not feel the goods are defective and refuses to accede to the
customer's demand; or (3) the merchant has become insolvent or
moved away.
The first alternative is not one which demands intellectual energy
struggling for a solution. Even though this attitude is confined to only a
few merchants, it exists, and it seems to exist in undue concentration
in lower-income areas. If consumer credit cards did not penetrate
extensively into these areas, this aspect of the problem would be of little
importance to holders or issuers. But they do penetrate this market,'
and this is a good argument for not allowing the issuers to aid unethical
merchants to mulct the public, particularly since issuers actively encourage their holders to patronize merchants which accept the card '28
Allowing the holder to assert the alleged breach of warranty as a
defense to the claim may determine whether or not he has an effective
remedy. The matter may be only procedural, since the buyer can in
any case sue the seller for the alleged breach of warranty, but an immediate cash outlay to pay the issuer, and a further cash outlay to pay
an attorney before there is any possibility of recovery from the seller,
is more than many can afford. Lower-income buyers in particular may
be forced to allow their legal rights to lapse. As the amount of the
obligation arising out of the sale decreases, the pressure from this
double cash outlay also decreases. But at the same time the smaller
monetary value of the claim reduces the worth to the buyer of breachof-warranty litigation.
Having paid the account, the buyer no longer has bargaining leverage with the merchant who does not wish to recognize the alleged
defect. If the buyer can resist payment to the issuer, his leverage with
the merchant is vastly increased, since it is to the issuer's benefit to encourage merchants to satisfy their customers. If the customers remain
dissatisfied, the issuers can and will increase the discount to cover the
added bad-debt expense, or take the accounts on a recourse basis
backed by a sufficient dealer reserve as in typical consumer financing. 12 °
127 "[Travel credit] cards ... are issued mostly to relatively high-income consumers,
and are used largely to charge airline tickets . . . and similar things. Bank cards are
issued largely to lower-income consumers, who use them mostly to charge purchases at
retail establishments, many of which are small." Wall Street Journal (Midwest Edition),
Jan. 17, 1967, p. 1, col. 8.
128 Issuers commonly participate in merchant newspaper advertising if the card
symbol is used in the advertisement. They distribute various forms of point-of-sale
advertising matter. Most importantly, they commonly send to the holders directories
indicating those merchants which accept the card. These directories urge the holders
to use their card "wherever you see this sign."
122 After the New Mexico Supreme Court, in State Nat'l Bank v. Cantrell, 47 N.M.
389, 143 P.2d 592 (1943), held that a transferee finance company of a negotiable note
514
CREDIT CARDS
In the long run, if the issuers cannot enforce claims arising out of
fraudulent sales or sales of defective merchandise, they will cut off
those merchants who habitually engage in such tactics.
The problem is somewhat different if the merchant does not feel the
goods are defective and refuses to accede to the customer's demand.
There is no policy reason to favor the merchant or the buyer, either of
whom may be in the right. Normally the issuer will favor the merchant
whose goodwill is more important to it than the goodwill of any particular holder. This is especially true in these early stages of consumer
credit cards, as the issuers attempt to persuade merchants that the
increase in sales will more than compensate for the three to five per cent
discount taken from the sales price by the issuer.'" The issuers already
return sales slips arising out of the unauthorized use of a card if it was
on the "hot list" of lost or stolen cards. The addition of returned claims
which cannot be collected because of an alleged breach of warranty or
fraud in the transaction, which the merchant denies, may be sufficient
to cause him to drop the plan. Many merchants did not previously
sell on credit and joined credit-card plans on thQ assurance that the
issuer takes all the credit risks, and they would consider it to be a
credit risk if the holder alleged a breach of warranty which they deny.
However, credit-card holders are also regular customers of the
issuer and are looked to for a steady stream of purchases. This may
mean that issuers will become more interested in retaining the holder's
goodwill than that of the merchant, especially if the plans for nationwide credit cards are successful. Under these plans a merchant who
agrees to accept any one card, agrees to accept any card issued by a
member of the plan. This means that the issuer knows the holder to
whom it issued the card, but need not know the merchant with whom
the card was used any more than it need know the merchant to whom
a check was drawn to pay for the purchase of goods.
It is difficult to judge whether the size and type of credit-card
purchases make customer complaints over the quality of the goods
purchased more or less of a problem to credit-card issuers than to
other consumer financers. The average size of a credit-card purchase is
considerably less than the average size of chattel paper. Although
refrigerators can be purchased with some cards, more of ten cards are
and conditional sales contract was not a holder in due course, the only real change
in consumer financing was that the finance companies increased the amount of the
dealers' reserve. Vernon, Priorities, The Uniform Commercial Code and Consumer
Financing, 4 B.C. Ind. & Com. L. Rev. 531, 547-48 (1963).
130 Diners' Club v. Whited, supra note 94, is a good example. Diners' Club was not
required by its contract with the merchants to pay them for charges incurred by use
of a stolen card. When it did so anyway, the appellate court dismissed Diners' Club's
action against the card holder, saying that the payments constituted promotion of its
goodwill with the merchants and not damages.
515
BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
used for small daily purchases. Ten alleged defects in $4 pillows may
cause as much or more administrative cost than one complaint about a
$4,000 automobile or $400 refrigerator and still involve less money.
With an automobile, or even a refrigerator, the amount of money involved may make it worth the time of the finance company to conduct at
least a cursory investigation and attempt to resolve the complaint.
But the value of the pillow is not worth more than a few minutes of the
issuer's time. Furthermore, nonpayment of a $4 or $40 claim does
not hurt as much as the nonpayment on a refrigerator.
Insolvency of a merchant who has sold defective goods raises all
of the considerations which have been written about so extensively.'
The risk of loss involved can be seen either as a mercantile risk (the
goods will be defective but not repaired by the seller) which should be
borne by the purchaser, or as a financial risk (insolvency of the seller)
properly borne by the finance company. In point of fact it is both. Yet
only an engineer or chemist can verify the quality of many modern
consumer goods until they have been used and found defective, while
the finance company or credit-card issuer can conveniently investigate
the solvency of the merchant. As regional and national credit-card
plans go into effect, however, the issuers may not be able to make such
investigations much longer. The individual issuer will lose contact with
the merchants who accept its card and will haVe no reason to know of
the solvency of those it has not personally induced to join the plan.
It would seem, therefore, that so long as the consumer credit cards
are local, or the issuer has encouraged the merchant to join the plan, the
issuer should be subject to the defenses which are good against the
merchant himself. Its close relationship with the merchant, the opportunity it has to investigate the merchant's solvency and business ethics,
the added leverage which the buyer would have in dealing with unethical merchants, the issuer's encouragement to holders to patronize
those merchants which accept the card, and the issuer's ability to
protect itself through recourse against the merchant and through the
institution of a dealer's reserve all point in this direction. However,
once the credit-card plans have become regional or nationwide, and the
issuer has not dealt with the merchant who sold the goods, it is considerably more difficult to see the policy grounds on which the issuer
should be subject to the holder's defenses.
131 E.g., Gilmore, The Commercial Doctrine of Good Faith Purchase, 63 Yale L.J.
1057, 1093-102 (1954) ; Kripke, supra note 126; Littlefield, Good Faith Purchase of
Consumer Paper: The Failure of the Subjective Test, 39 So. Cal. L. Rev. 48 (1966);
Sutherland, Article 3—Logic, Experience and Negotiable Paper, 1952 Wis. L. Rev. 230,
235-40. The holder's ability to assert defenses and counterclaims against the issuer is
considered with care in Comment, supra note 113, at 471-78, but the effect of agreements not to assert defenses is not discussed.
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C. Conclusions About the Assertion of Contract Defenses
These ruminations over the card issuer's freedom from the card
holder's contract defenses lead to no clearcut conclusion. The movement in recent years has been to expand the consumer buyer's right to
assert his contract defenses against those who finance the sale, in spite
of the buyer's agreement not to do so. Unless this principle is extended
to the card issuer, the movement will come to naught to the extent that
credit-card financing supplants the traditional forms of consumer
financing.
On the other hand, as the consumer-credit plans become regional
and then national, there will be a fundamental change in the relationships of the three parties: issuer, holder, and merchant It is still
true today that the card issuer can be considered as supplying the
merchant with a substitute charge-account service. But the drafters of
the Uniform Consumer Credit Code, at the present stage of their work,
call the three-party credit-card transaction a loan. In the future, we may
see in it the establishment by the card holder of a line of credit at a bank
with payment to the merchant by a form of bank instrument alternative
to the check.' Once this happens, there will be little basis for allowing
the card holder to assert his defenses against a card-issuer bank after
payment of the instrument.
IV. CONCLUSION
The problems arising out of lost and stolen cards and the card
issuer's freedom from contract defenses are only two of the many to
be faced as credit cards replace cash, checks, and various forms of
purchase-money financing. One obvious and unsolved problem is the
application of usury laws or installment sales acts to credit-card
financing. It has been suggested above that the current acts do not
apply2-33 Happily, the drafters of the proposed Uniform Consumer
Credit Code are aware of the problem and intend to cover credit-card
financing either in a separate article of the Code or by inserting it
within the article on consumer loans. But covering regular two-party
loans and three-party credit-card loans in the same provisions will not
be easy.
The relationship between merchant and issuer is completely unexplored. It is not satisfactory to fit it exclusively within the law of
assignment, bank collection, letters of credit, or unadorned contract
when it partakes of each to some extent. Nevertheless, some characterization will occur whether or not desired or desirable. For example, if
132 For a discussion of other forms of noncheck bank transfers, see Dunne, variation
on a Theme by Parkinson or Some Proposals for the Uniform Commercial Code and the
Checkless Society, 75 Yale L.J. 788 (1966).
133 See p. 511 supra.
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BOSTON COLLEGE INDUSTRIAL AND COMMERCIAL LAW REVIEW
the issuer acquires his rights against the holder by assignment of an
account within the meaning of Article 9 of the Uniform Commercial
Code, the issuer must file a financing statement to perfect its security
interest. This is not the practice today. Eventually some creditor, or the
trustee in bankruptcy of an insolvent merchant, will raise the question.
It is unfortunate that a current business practice, involving billions
of dollars annually, exists in such legal uncertainty. However, the
industry is changing rapidly. It is unlikely in the near future to settle
on a form which clearly fits the existing legal categories. For the same
reason, the industry is not ready for comprehensive legislation, and it
is unlikely that there will be sufficient litigation on the total range of
questions to provide a reliable means of airing the problems. The only
alternative is to increase vastly the amount of consideration given to
credit cards by the law reviews before we find ourselves in a cashless
society with too few legal guideposts by which to operate.
518